Appeals court rulings deny hedge-fund managers a path to avoiding the 3.8% federal self-employment tax after an eight-year IRS campaign. Investment firm executives, including Treasury Secretary Scott Bessent, had long used a 1977 law excluding limited partners from the tax. Recent opinions from the 2nd and 5th U.S. Circuit Courts of Appeals backed the government’s view that partners deeply involved in operations must pay, regardless of titles. University of Baltimore law professor Walter Schwidetzky declared, “The limited partner gambit is dead.”
The rulings may still be appealed, but consequences are rippling through firms. Some with pending IRS cases, including New York Mets owner Steve Cohen, will likely owe more. Bessent, who ran Key Square Group, settled the issue with the federal government this summer, according to a person familiar. The 2nd Circuit ruled against Soroban Capital Partners, requiring its three main partners to pay more on $141.5 million in earnings from 2016-2017.
Government revenue could add up across hedge-fund and private-equity industries. “Hedge funds, PE structures, there’s a significant amount of earnings,” said Dianne Mehany of EY. Oddly, the rulings could create openings for law and accounting firm partners without management roles to argue exemption. Attorneys expect future disputes over what it means to run, manage, or control a business. “We’re in no man’s land now,” Mehany said.
Source: Wall Street Journal Markets · Summarized by HeadlinesBriefing